FREE PREVIEW

Not a Time to Buy Stocks

In the Oct. 2, 2015, issue of Capitalist Times Premium, we analyzed the historical relationship between the S&P 500’s valuation and subsequent returns. (See Do Valuations Matter.) Our study showed that although expensively priced markets can rally and cheap markets can tumble further in the short term, valuation matters over longer holding periods of five to 10 years.

Today, the S&P 500 trades at 18.75 times trailing earnings. Market data from the past 40 years reveals that an investor who buys the S&P 500 when the index trades at 18 to 19 times earnings averages an annualized gain of about 7 percent over a decade-long holding period. Though positive, these total returns pale in comparison the S&P 500’s average annual gain of 11.3 percent over this 40-year period.

Price-to-earnings ratios in the US market could become even more expensive because corporate profits remain under pressure on a year-over-year basis, falling 5.14 percent in the third quarter of 2015 and 11.5 percent in the fourth quarter.

(Click graph to enlarge.)

Corporate profits suffered a similar downturn in 2000 and 2007, presaging a US recession and accompanying bear-market correction in the S&P 500.

When corporate profits tumbled in 1998, the US didn’t suffer an economic contraction, in part because the Federal Reserve slashed interest rates by 75 basis points and orchestrated the bailout of Long-Term Capital Management, a highly leveraged hedge fund on the brink of default. Nevertheless, the S&P 500 still plummeted 22.5 percent from its July high to its October low that year.

Signs of Life

Past issues of Capitalist Times Premium have highlighted the decline in the Institute for Supply Management’s Purchasing Managers Index (PMI) for US manufacturing industries as a sign of weakness in the economy.

If this looks like a small static image, your browser does not support the
canvas tag. Please try again using a different browser, or try to imagine text
swirling around in response to the mouse position.

DISCLAIMER: Capitalist Times, LLC is a publisher of financial news and opinions and NOT a securities broker/dealer or an investment advisor. You are responsible for your own investment decisions. All information contained in our newsletters or on our website(s) should be independently verified with the companies mentioned, and readers should always conduct their own research and due diligence and consider obtaining professional advice before making any investment decision. As a condition to accessing Capitalist Times materials and websites, you agree to our Terms and Conditions of Use, available here including without limitation all disclaimers of warranties and limitations on liability contained therein. Owners, employees and writers may hold positions in the securities that are discussed in our newsletters or on our website.